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COB 2.2 Inducements and soft commission

Application

COB 2.2.1 R

This section applies to a firm that conducts designated investment business with or for a customer.

Purpose

COB 2.2.2 G

Principles 1 and 6 require a firm to conduct its business with integrity, to pay due regard to the interests of its customers and to treat them fairly. The purpose of this section is to ensure that a firm does not conduct business under arrangements that might give rise to a conflict with its duty to customers.

Prohibition of inducements

COB 2.2.3 R

A firm must take reasonable steps to ensure that it, and any person acting on its behalf, does not:

  1. (1)

    offer, give, solicit or accept an inducement; or

  2. (2)

    direct or refer any actual or potential item of designated investment business to another person on its own initiative or on the instructions of an associate;

if it is likely to conflict to a material extent with any duty that the firm owes to its customers in connection with designated investment business or any duty which such a recipient firm owes to its customers.

COB 2.2.4 G

The purpose of COB 2.2.3 R (2) is to prevent the requirement in COB 2.2.3 R (1) being circumvented by an inducement being given or received by an unregulated associate. A firm may be able to demonstrate that it could not reasonably have knowledge of an associate giving or receiving an inducement. It should not, however, direct business to another person on the instruction of an associate if this is likely to conflict with the interests of its customers.

Investment research

COB 2.2.4A G

3An offer or agreement to publish investment research which is, or to change a published recommendation so that it becomes, favourable to its subject (even if the subject is a customer of the firm), is an example of offering or accepting an inducement which is likely to conflict to a material extent with the firm's duties to its other customers. (See also COB 5.10 in relation to inducements related to corporate finance and COB 7.16 in relation to investment research.)4

Restriction in connection with packaged products

COB 2.2.5 E
  1. (1)

    A firm should not enter, and should take reasonable steps to ensure that no person acting on its behalf enters, into any of the following arrangements with another firm in relation to a packaged product if any commission is required to be disclosed to a customer:52

    1. (a)

      volume overrides, if commission paid in respect of several transactions is more than a simple multiple of the commission payable in respect of one transaction of the same kind;

    2. (b)

      an arrangement to pay commission that is increased in excess of the amount disclosed to the customer, unless the increase is attributable to an increase in the premiums or contributions payable by that customer;

    3. (c)

      an agreement to indemnify the payment of commission on terms that would or might confer an additional financial benefit on the recipient in the event of the commission becoming repayable;

    4. (d)

      an arrangement to pay commission other than to the firm responsible for a sale, unless:

      1. (i)

        the firm responsible for the sale has passed on its right to receive the commission to the recipient; or

      2. (ii)

        another firm has given advice on investments to the same customer after the sale; or

      3. (iii)

        the commission is paid following the sale of a packaged product by the firm in response to a direct offer financial promotion communicated by that firm to a customer of the recipient firm.5

  2. (1A)

    COB 2.2.5 E (1) does not apply to arrangements between firms that are in the same immediate group. In this situation COB 5.7.5 R will apply.

  3. (2)

    Contravention of (1) may be relied upon as tending to establish contravention of COB 2.2.3 R.

5Financial assistance and product providers

COB 2.2.5A E
  1. (1)

    5This evidential provision applies in relation to a holding in, or the provision of credit to, a firm which holds itself out as giving advice on investments to private customers on packaged products except where the relevant transaction is between persons who are in the same immediate group.

  2. (2)

    A product provider should not take any step which would result in it:

    1. (a)

      having a direct or indirect holding in a firm in (1) of its capital or voting power ; or

    2. (b)

      providing credit to a firm in (1) (other than commission due from the firm to the product provider in accordance with an indemnity commission clawback arrangement);5

    unless all the conditions in (4) are satisfied. A product provider should also take reasonable steps to ensure that its associates do not take any step which would result in it having a holding as in (a) or providing credit as in (b), having regard to (5).5

  3. (3)

    A firm in (1) should not take any step which would result in a product provider having a holding as in (2)(a) or providing credit as in (2)(b), unless all the conditions in (4) are satisfied.

  4. (4)

    The conditions referred to in (2) and 5(3) are that:

    1. (a)

      the holding is acquired, or credit is provided, on commercial terms; that is terms objectively comparable to those on which an independent person unconnected to a product provider would, taking into account all relevant circumstances, be willing to acquire the holding or provide credit;

    2. (b)

      the firm (or, if applicable, each of the firms) taking the step has reliable written evidence that (a) is satisfied;

    3. (c)

      there are no arrangements, in connection with the holding or credit , relating to the channelling of business from the firm in (1) to the product provider; and

    4. (d)

      the product provider is not able, and none of its associates is able, because of the holding or credit, to exercise any influence over the advice on investments in relation to packaged products given by the firm.

  5. (5)

    In this evidential provision , in applying (2) and (3) any holding of, or credit provided by, a product provider'sassociate is to be regarded as held by, or provided by, that product provider.

  6. (6)

    In this evidential provision , in applying (3) references to a " product provider " are to be taken as including an unauthorised equivalent of a product provider ; that is, an unauthorised insurance undertaking or an unauthorised operator of a regulated collective investment scheme or of an investment trust savings scheme.

  7. (7)

    Contravention of (2) or (3) may be relied upon as tending to establish contravention of COB 2.2.3 R.

Packaged products - guidance on indirect benefits

COB 2.2.6 G
  1. (-2)

    To comply with COB 2.2.3 R, neither a product provider nor any of its associates should give, and a firm should not receive from such persons , any indirect benefit, if the benefit is likely to conflict to a material extent with any duty owed by the receiving firm when giving advice on investments to private customers on packaged products. Such conflicts may arise, for example, where the gift might induce material bias as regards:5

    1. (a)

      the choice of product provider whose products are recommended; or5

    2. (b)

      the type of product which is recommended.5

  2. (-1)

    The guidance in COB 2.2.7 G is not relevant to indirect benefits which may be given by a product provider or its associate to its own representatives.5

  3. (1)

    The FSA will not regard a firm as being in contravention of COB 2.2.3 R if it gives or receives gifts, hospitality and promotional competition prizes of a reasonable value, providing they do not conflict with the duties that the recipient owes to its customers.5

  4. (2)

    A product provider may assist another firm to promote its packaged products so that the quality of its service to customers is enhanced. Such assistance should not be of a kind or value that is likely to impair the other firm's ability to pay due regard to the interests of its customers, and to give advice on, and recommend, packaged products available from the recipient firm's whole range or ranges of packaged products. The recipient firm should be mindful of the requirements of COB 5.3.5 R (Requirement for suitability generally).5

  5. (3)

    In relation to the sale of packaged products, COB 2.2.7 G indicates the kind of benefits which, in the FSA's view, a firm can give and receive without contravening COB 2.2.3 R.

  6. (4)

    COB 2.2.6 G does not apply to indirect benefits provided by a firm to another firm that is in the same immediate group. In this situation COB 5.7.5 R will apply.5

COB 2.2.7 G

Reasonable indirect benefits1

This Table belongs to COB 2.2.6 G.

55

Reasonable indirect benefits

Joint marketing exercises

1

A product provider or its associate may provide generic product literature (that is, letterheading, leaflets, forms and envelopes) that is suitable for use and distribution by or on behalf of another firm if:5

(a)

the literature does not feature the recipient firm's name or features it less prominently than that of the product provider and is not used to promote the recipient firm'sbroker fund service; and5

(b)

the total costs (for example, packaging, posting, mailing lists) of distributing such literature to its customer are borne by the recipient firm.5

2

A product provider or its associate may supply another firm with 'freepost' envelopes, for forwarding such items as completed applications, medical reports or copy client agreements , when these are made generally available to all firms from which the provider obtains business.5

3

A product provider or its associate may supply product specific literature (for example, key features, minimum information, direct offer financial promotions) to another firm if:5

(a)

the literature is not designed to be used to promote the recipient firm's broker fund service; or5

(b)

the literature does not contain the name of any other firm; or5

(c)5

the name of the recipient firm (if it is included) appears only incidentally in the literature and the supplying firm's name appears with greater prominence.5

4

A product provider or its associate may supply draft articles, news items and financial promotion's for publication in another firm's magazine, only if in each case any costs paid by the product provider or its associate for placing the articles and financial promotions are not more than market rate, and exclude distribution costs.5

Seminars and conferences

5

A product provider or its associate may take part in a seminar organised by another firm or a third party and may pay toward the cost of the seminar, if:5

(a)

its participation is for a genuine business purpose;

(b)

the contribution is reasonable and proportionate to its participation and by reference to the time and sessions at the seminar when its staff play an active role; and5

(c)

in the case of a seminar organised by a third party, the seminar is open to participation by other firms generally.5

Technical services and information technology

6

A product provider or its associate may supply a 'freephone' link to which it is connected only if it is available to other firms generally.5

7

A product provider or its associate may supply another firm with any of the following:5

(a)

quotations and projections relating to its packaged products and, in relation to specific investment transactions (or for the purpose of any scheme for review of past business), advice on the completion of forms or other documents;

(b)

access to data processing facilities, or access to data, that is related to the product provider's business;5

(c)

access to third party electronic dealing or quotation systems that are related to the product provider's business; and5

(d)

software that gives information about the product provider'spackaged products or which is appropriate to its business (for example, for use in a scheme for review of past business or for producing projections or technical product information).5

7A5

A product provider may pay cash amounts or give other assistance to a firm not in the same immediate group for the development of software or other computer facilities necessary to operate software supplied by the product provider, but only to the extent that by doing so it will generate equivalent cost savings to itself or consumers.5

8

A product provider or its associate may supply a broker fund adviser (and its customer ) with a periodic statement relating to the relevant broker fund if the broker fund adviser is unable to supply the periodic statement.5

9

A product provider or its associate may supply another firm with information about sources of mortgage finance.5

10

A product provider or its associate may supply another firm with generic technical information in writing, not necessarily related to the product provider's business, when this information:5

(a)

is made available generally to other firms which give or might give advice on the product provider'spackaged products; or5

(b)

(i)

is of a specialist nature and is made available to a particular class of firm (that is, one that promotes itself as an expert in the same specialist area); and5

(ii)

states clearly and prominently that it is produced by the product provider or (if different) supplying firm.5

Training

11

A product provider or its associate may provide another firm with training facilities of any kind (for example, lectures, venue, written material and software) only if these are made available generally to all other firms which give or might give advice on the product provider'spackaged products.5

Travel and accommodation expenses

12

A product provider or its associate may reimburse another firm's reasonable travel and accommodation expenses when the other firm: 5

(a)

participates in market research conducted by or for the product provider; 5

(b)

attends an annual national event of a UK trade association, hosted or co-hosted by the product provider;5

(c)

participates in the product provider's training facilities (see 11);5

(d)

visits the product provider'sUK office in order to:5

(i)

receive information about the product provider's administrative systems; or5

(ii)

attend a meeting with the product provider and an existing or prospective customer of the receiving firm.5

Requirements when using a soft commission agreement

COB 2.2.8 R

A firm must not dealin investments as agent for a customer, either directly or indirectly, through any broker, under a soft commission agreement, unless:

  1. (1)

    the agreement is a written agreement for the supply of goods or services described in COB 2.2.12 R which do not take the form of, or include, cash or any other direct financial benefit;

  2. (2)

    the broker has agreed to provide best execution to the firm;

  3. (3)

    the firm has taken reasonable steps to ensure that the terms of business and methods by which services will be supplied by the broker do not involve any potential for comparative price disadvantage to the customer;

  4. (4)

    for transactions in which the broker acts as principal, the firm has taken reasonable steps to ensure that commission paid under the agreement will be sufficient to cover the value of the goods or services to be received and the costs of execution; and

  5. (5)

    the firm makes adequate prior and periodic disclosure to the customer in accordance with COB 2.2.16 R and COB 2.2.18 R.

COB 2.2.9 G

When the soft commission broker is part of an 'integrated house', a firm may be able to meet the requirements of COB 2.2.8 R (4) if it is able to monitor the individual transaction prices obtained by the broker, and has taken reasonable steps to ensure that the broker has complied with its best execution obligation. Alternatively, a firm should select a soft commission broker who is able to demonstrate independence of action in the market place. This is unlikely to be fulfilled when that broker deals exclusively with one market maker.

COB 2.2.10 G

When a broker is only partly remunerated by commission, in complying with COB 2.2.8 R (4) a firm should take reasonable steps to ensure that the commission element that should be disclosed constitutes the greater part of that broker's remuneration. A broker firm should also set its multiple at a level which it can demonstrate would generate sufficient commission income from softing transactions to cover the costs of the goods and services provided, and the costs of dealing and settling the associated transactions, together with the specialised softing administration. When considering whether the commission is sufficient to cover the costs of the services provided, the broker firm may have regard to the aggregate number of bargains transacted rather than each individual transaction.

COB 2.2.11 G

Although "commission recapture" and "directed commission" arrangements are not covered by COB 2.2.8 R, a firm should have regard to the prohibition on inducements in COB 2.2.3 R.

Allowable benefits provided under a soft commission agreement

COB 2.2.12 R

A firm may accept goods or services supplied under a soft commission agreement, and these goods or services will not constitute an inducement for the purposes of COB 2.2.3 R, provided that they are directly relevant to, and are used to assist in, the provision to the firm's customers of:

  1. (1)

    investment management services;

  2. (2)

    advice on dealing in, or on the value of, any designated investment;

  3. (3)

    custody services relating to designated investments belonging to, or managed for, customers; or

  4. (4)

    services relating to the valuation or performance measurement of portfolios.

COB 2.2.13 G

Examples of particular goods and services that could be provided under a soft commission agreement include, to the extent they would assist in the provision of the services specified in COB 2.2.12 R:

  1. (1)

    research, analysis and advisory services, including those on economic factors and trends;

  2. (2)

    market price services;

  3. (3)

    electronic trade confirmation systems;

  4. (4)

    third party electronic dealing or quotation systems;

  5. (5)

    computer hardware associated with specialised computer software or research services;

  6. (6)

    dedicated telephone lines;

  7. (7)

    seminar fees (if the subject matter is relevant to the provision of the services set out in COB 2.2.12 R); and

  8. (8)

    publications (if the subject matter is relevant to the provision of the services set out in COB 2.2.12 R).

COB 2.2.14 G

Examples of goods and services that the FSA does not regard as relevant to the provision of the services specified in COB 2.2.12 R include:

  1. (1)

    travel, accommodation or entertainment costs, whether or not related to the conduct of designated investment business;

  2. (2)

    any seminar fees not falling within COB 2.2.13 G (7) ;

  3. (3)

    any subscription for publications not falling within COB 2.2.13 G (8);

  4. (4)

    office administrative computer software, for example, word processing or accounting programmes;

  5. (5)

    computer hardware not associated with specialist computer software;

  6. (6)

    membership fees to professional associations;

  7. (7)

    purchase or rental of standard office equipment or ancillary facilities;

  8. (8)

    employees' salaries; and

  9. (9)

    direct money payments.

COB 2.2.15 G

In complying with COB 2.2.8 R when a firm is able to and does reclaim or offset all or part of the VAT payable on benefits received, the firm should ensure that its soft commission account with the broker is charged only with the net amount at the firm's effective rate. Disclosure of the value of benefits received, in accordance with COB 2.2.18 R, should be expressed net of VAT reclaimed, when appropriate.

Prior disclosure

COB 2.2.16 R

1Before a firm enters into a client agreement authorising it to deal for a customer, either directly or indirectly, with or through the agency of another person, under a soft commission agreement which the firm has, or knows, or ought reasonably to know, that another member of its group has, with that other person, the firm must inform the customer in writing of:

  1. (1)

    the existence of the soft commission agreement; and

  2. (2)

    the firm's or, when relevant, its group's policy relating to soft commission agreements.

COB 2.2.17 G

When making the disclosures required by COB 2.2.16 R, a firm should note that:

  1. (1)

    it is acceptable to make a general disclosure that soft commission agreements are, or may be, in place;

  2. (2)

    the requirements apply equally when deals are placed directly, and not solely on an agency basis, with a third party (for example, a unit trustmanager in the same group), that itself is a party to the soft commission agreement; and

  3. (3)

    the policy statement should explain generally why the firm or a member of its group might find it necessary or desirable to pay soft commission, bearing in mind the practices in the markets in which it does business on behalf of its customers.

Periodic disclosure

COB 2.2.18 R

1If a firm has, or knows, or ought reasonably to know, that another member of its group has a soft commission agreement with another person under which either the firm or that other member of its groupdeals for a customer, the firm must:

  1. (1)

    provide each relevant customer at least once a year, unless COB 2.2.19 R applies, with the following information covering the period since the firm last reported to that customer or, if no previous report has been made, since the firm first dealt for him:

    1. (a)

      the percentage paid under soft commission agreements of the total commission paid by or at the direction of:

      1. (i)

        the firm; and

      2. (ii)

        any other member of the firm's group which is a party to those agreements;

    2. (b)

      the value (on a cost price basis) of goods or services received by the firm under soft commission agreements, expressed as a percentage of the total commission paid by or at the direction of:

      1. (i)

        the firm; or

      2. (ii)

        other members of the firm's group;

    3. (c)

      a summary of the goods or services received by the firm;

    4. (d)

      a list of the brokers which are parties to the soft commission agreements; and

    5. (e)

      the total commission paid from the portfolio of that customer;

  2. (2)

    at least once a year explain to each relevant customer, unless COB 2.2.19 R applies, the policy of the firm relating to soft commission agreements for the period up to the submission of the next policy statement (which must not exceed one year) or state that its policy has not changed (this may be included in any periodic report provided under (1), or in a separate document);

  3. (3)

    give to a customer to whom it is relevant an explanation promptly after any material change in the firm's policy relating to soft commission agreements, and, if it is the case, confirm to each relevant customer that the goods and services received by the firm are expected to assist only in the conduct of designated investment business with or for other customers.

Exceptions

COB 2.2.19 R

A firm need not make the periodic disclosures required by COB 2.2.18 R (1) or COB 2.2.18 R (2) if:

  1. (1)

    the customer is habitually resident overseas and has requested the firm not to do so; or

  2. (2)

    a firm has information from which it is reasonable to conclude that the customer does not wish to receive this information.

Record keeping

COB 2.2.20 R
  1. (1)

    A firm must make records of the reports sent to its customers as required by COB 2.2.18 R and retain those records for at least three years from the date on which the soft commission agreement to which they relate is terminated.

  2. (2)

    A firm must make a record of each payment of disclosable commission, and must retain that record for a period of at least six years from the date of payment.

  3. (3)

    A firm must make a record of each benefit given to another firm in accordance with COB 2.2.6 G, and must keep that record for at least six years from the date on which it was given.5